by Calculated Risk on 2/07/2009 01:49:00 PM

The Senate has apparently kept the $15,000 homebuyer tax credit in the stimulus package. The tax credit sponsors, Senators Johnny Isakson and Joe Lieberman, estimated the cost would be $18.5 billion. Several analysts (like Dean Baker) made fun of this estimate, and the new is estimate is a cost of $35.5 billion. But this post isn't about the poor math skills of Senators ...

First the details (as far as I can tell):

The tax credit is 10% of the purchase price up to $15,000.

The tax credit is for one year (from date of enactment).

The credit is available for both new and existing home purchases.

This is for primary residences only, and the home must be owner occupied for two years after purchase.

There is no income cap (the $7,500 tax credit had an income cap of $150,000 per year).

Unlike the $7,500 tax credit, the new credit does not have to be repaid over time.

The credit is limited each year to the amount of taxes paid in any one year (with the $7,500 tax credit, buyers received the entire credit and a refund if the $7,500 was greater than taxes for the year)

Buyers can split the $15,000 into two separate tax credits to be taken in successive years.

Clearly this favors higher income tax payers as compared to the current $7,500 tax credit. Ryan Donmoyer at Bloomberg has more: Senate’s Tax Credit Favors Higher-Income Homebuyers

The Cost

The first cost estimate of $18.5 billion from Isakson and Lieberman was absurd.

There were 4.9 existing homes bought in 2008, and another 482 thousand new homes. Even with a decline in sales in 2009, probably close to 5 million homes will be sold.

Of course many low end REOs are being bought by cash flow investors (to rent), and these buyers would not qualify (only primary residences qualify), and 2nd home purchases are excluded too, but 3 to 4 million homebuyers will probably qualify over the next 12 months. Not all homebuyers will receive the entire credit, but even at $12,000 per buyer (the credit can be spread over two years), the cost will be $36 billion to $48 billion. So the new estimate is probably close.

The Purpose

This tax credit is being compared to the 1975 tax credit for homebuyers. However in 1975 the tax credit was for new homes only, and was intended to reduce the inventory of new homes, and help put residential construction workers back to work. A boom in new home sales followed the enactment of the 1975 tax credit, but the cause and effect is debatable because the economy was emerging from a recession anyway. The tax credit probably helped.

Although new home inventory was a little high in 1975, there were few other excess housing units. The homeowner vacancy rate was 1.2% (compared to 2.9% today) and the rental vacancy rate in 1975 was 6% (compared to 10.1% today). So the supply dynamics were very different.

In this case the tax credit is for both existing and new homes. This is more of an incentive to get people to move as opposed to putting people back to work. Whereas there were few excess units in 1975 (except excess new home inventory), there are far too many excess units today.

The sponsors and supporters of this tax credit believe this will support house prices - a mistake because this will mostly just shuffle homeowners between homes, and not reduce the excess supply.

If the incentive was for new homes only, the credit would probably help create some construction jobs. However, the job creation would be limited because of the competing oversupply of existing homes.

The tax credit for existing homes does almost nothing to help the economy. Some might argue that this is more work for agents and home inspectors, and might help with furniture sales, but the impact will be minor. Remember existing home sales are already at a normal level compared to the stock of owner occupied units, so agents are doing fine already (just not compared to the bubble years).

Click on graph for larger image in new window.

This graph shows sales and inventory of existing homes as a percent of Owner Occupied Units (a measure of turnover).

By this measure sales are still above the normal range of about 6% per year. Inventory is above the usual range too. With 76 million owner occupied households, a normal range for existing homes sales is about 4.5 million per year.

The key problem for housing is prices are too high. How does this tax credit help reduce prices? Why are we trying to artificially increase the turnover rate? And why are we targeting a tax credit at higher income individuals?

This tax credit seems ill-conceived, and probably should be removed from the stimulus package. No one has adequately explained how this helps "fix housing first".